Dec. 3 (Bloomberg) -- Bahrain, the Persian Gulf nation
whose credit rating was cut in September, will revamp subsidies
that have led to excessive consumption of energy and some foods,
Central Bank Governor Rasheed al-Maraj said.

“We are very much aware that the level of consumption in
energy and some of the foods is not sustainable,” al-Maraj, 57,
said in an interview in Manama, Bahrain, yesterday. “The
philosophy of directing the subsidies toward the needy is now
being reflected into the programs.”

The changes may start as early as this month and will
include “certain mitigations” to avoid fueling inflation, al-Maraj said. Inflation was 3.8 percent in October, and al-Maraj
said he expects a year-end rate near the International Monetary
Fund’s forecast of 2.7 percent.

The IMF has repeatedly urged Persian Gulf countries to
reduce energy subsidies, saying even oil-rich nations can’t
afford to keep increasing public spending. The IMF says
Bahrain’s budget deficit will widen to 5 percent of gross
domestic product next year, almost double the 2012 gap. Bahrain
is among the Gulf states that boosted outlays to ward off the
political unrest spreading through the Arab world in 2011.

‘Unsettled Politics’

King Hamad bin Isa Al Khalifa ordered a handout of 1,000
dinars ($2,650) per family in February that year, a month before
Bahrain declared a state of emergency as protesters led by
members of the Shiite majority demanded more civil rights. The
Sunni monarchy, aided by Saudi Arabia, suppressed the sometimes
violent protests with force. Sporadic demonstrations and clashes
continue.

Bahrain last year started disbursing compensation to the
families of some killed during the unrest. The initiative
followed recommendations from an international commission that
investigated possible human-rights abuses in February and March
2011. At least 35 people were killed during the rallies and an
ensuing crackdown, the commission said.

Moody’s Investors Service says Bahrain’s “unsettled
politics” is the biggest constraint on creditworthiness. The
ratings company lowered Bahrain to Baa2, the second-lowest
investment grade, in September, citing budget constraints and a
weaker economic outlook.

Quickening Growth

The downgrade hasn’t deterred investors. The 6.125 percent
bonds Bahrain sold in July have gained since the Moody’s
decision, pushing the yield down 69 basis points in the period
to 5.65 percent at the close today.

Al-Maraj said Moody’s based its decision on “an
inconclusive picture” of Bahrain’s politics and economy. “If
they get their information from sources that are not reliable,
that’s not our problem,” he said.

Bahrain’s growth has revived after slowing amid the
political tensions of 2011. GDP increased 3.4 percent last year,
according to central bank data, and al-Maraj forecast an
expansion of 4 percent this year.

The Central Bank of Bahrain last cut its key interest rate
-- the one-week deposit facility -- by a quarter percentage
point to 0.5 percent in 2009. Like many countries in the region
with currencies linked to the U.S. dollar, Bahrain’s monetary
policy often takes its cues from the U.S. Federal Reserve.

Saudi Arabia, whose riyal is pegged to the U.S. dollar, has
kept its repurchase rate at 2 percent since 2009.

‘Market Verdict’

“I don’t see in the foreseeable future, at least in the
next year, we will see any change in the interest rate direction
because we know the economic recovery in the world is fragile
and slow,” al-Maraj said. “Although our economy is moving at a
faster rate than international economies, but we think there is
no inflationary pressure internally to prompt us to take any
action.”

The central bank is encouraging Bahrain’s financial sector
to consolidate, and there are “a few initiatives” under way,
he said. Khaleeji Commercial Bank and Bank Alkhair BSC have
already announced a possible merger.

The nation’s Islamic banks, about a quarter of the total
number of lenders, have a “slightly higher” non-performing
loan ratio than the 4 percent figure for conventional banks, al-Maraj said. The Islamic lenders may see the ratio improve this
year because real-estate prices are rising, he said.

“The rise in deposits is a reflection of market confidence
in our financial system,” al-Maraj said.

“This gives probably a verdict against all those who have
come up with negative views of Bahrain and its economic and
political stability,” he said. “This is the market verdict.”